Flex Benefits: Letting Your People Choose Their Perks

Employers who are looking for options for employee benefits plans might want to consider flex benefits, also known as “cafeteria plans.” Just like the name suggests, these plans allow employers and employees more flexibility than standard benefits packages-- to pick and choose what they want!

What’s a “Cafeteria Plan” of Benefits?

Flex benefits, or “cafeteria plans” are reimbursement-style benefits plans in which employers offer a long list of potential benefits, and employees choose which options they’d like to enroll in (note that these plans must meet the requirements outlined in Section 125 of the Internal Revenue Code). In a flex benefits plan, employees have the same amount of money allocated to their total compensation, regardless of whether they apply it to benefits (on a pre-tax basis) or receive it in cash as part of their taxable salary.

Typically, employers set a limit to the number of benefits that they are willing to reimburse. If employees choose to purchase more benefits than their employer offers, they can pay for a portion of the benefits with pre-tax dollars from their base salary. If the employee chooses to forgo benefits or to take less than the maximum amount of employer-paid benefits, they are allowed to take a cash benefit instead.

If employees choose to purchase more benefits than their employer offers, they can pay for a portion of the benefits with pre-tax dollars from their base salary.

In other words, employees can choose between medical, dental, vision, and other employee benefits, or opt to receive the employer contribution in cash.

To look at it from another point of view, flex benefits are a portion of the employee’s total compensation package that can be spent pre-tax on certain benefits. The employer agrees to a certain budget for their own contributions to benefits, and they offer employees a menu of options on which to spend it.

What Is the Difference Between a Flex Plan and a Traditional Employee Benefits Package?

To be clear, a section 125 flex plan is not employer-provided health insurance. There are some important differences.

With traditional employer-provided benefits, the employer covers a portion of the employee’s insurance premiums and provides a specific amount of other benefits. If an employee chooses not to use any of the offered benefits--for example, if they are already covered by a spouse’s health insurance plan--they simply forfeit the benefit. They don’t get to put that money toward another benefit or receive it as cash.

But with a flex benefits plan, employees receive the allocated benefits amount regardless of how they choose to spend it. If the employer offers $10,000 in benefits, employees receive either $10,000 worth of benefits, $10,000 in cash, or some combination that adds up to $10,000 in value. Keep in mind, though, that if the employee chooses to receive a cash payment, it will be taxed.

With a flex benefits plan, employees receive the allocated benefits amount regardless of how they choose to spend it.

In fact, section 125 requires the following of flex benefits plans:

• Employers must offer benefits to employees on a pre-tax basis.
• The plan must include at least one taxable benefit option, such as a cash benefit or taxable benefit such as supplemental disability insurance.
• The plan must include at least one “qualified benefit.” Qualified benefits are those that the IRS allows employees to exclude from their taxable gross income, meaning it can be paid for pre-tax. Qualified benefits include:
  • Accident and health insurance benefits
  • Adoption assistance reimbursement
  • Child and dependent care assistance
  • Group-term life insurance
  • Health savings accounts

Which Benefits Can Be Included in a Cafeteria Plan?

Flex benefits plans may include a wide variety of benefits. Most often, employers offer health, dental, and disability insurance, as well as retirement savings. But there are many other options.

Let’s look at an example.

“Janet” has a base salary of $100,000. Her employer offers $30,000 pre-tax for benefits. She has the following options for spending her benefits dollars.

Janet looks over her menu and decides that she really needs health, dental, and disability insurance. She doesn’t have a spouse or children, so she chooses to forgo life insurance and dependent care FSA. The only other benefits she’s really interested in are the retirement plan and leave, so she splits up the remainder of her flex benefits money between those two.

Here is Janet’s salary and flex benefits breakdown:

Taxable

Base salary $100,000

Pre-tax

Health insurance: $6,000

Dental insurance: $500

Retirement plan: $10,500

Leave: $10,000

Disability insurance $3,000

-------------

Pre-tax Total $30,000

Total compensation (Taxable and pre-tax) $130,000

What Are the Pros and Cons of Cafeteria Plans?

The way we see it, there are three main benefits to employers who offer flex benefits plans

Pros:

1. Just like their employees, employers get tax savings too.

Since the employees use the flex benefits dollars to pay for their benefits pre-tax, that money is not subject to payroll taxes. This means that employers don’t have to contribute to payroll taxes on that money either. FICA, FUTA, SUTA, and Workers’ Compensation rates are all lowered.

2. The payroll tax savings offset the employer’s benefits cost.

Employers can save enough money in payroll taxes to reduce their costs of offering the flex benefits plans. What’s more, if employees use an FSA as part of their flex plan, any unused money in those accounts goes back to the employer at the end of the year. This reduces employers’ costs even more.

3. All employees benefit from the plan, regardless of participation.

Employees who choose to participate in the employer’s plan will obviously benefit from it. But unlike traditional employer-paid insurance benefits, non-participating employees will benefit from the cash payments. This makes everyone happy.

Of course, everything has its drawbacks. For flex benefits plans, we’ve identified two.

Cons:

1. They are complicated.

These plans are pretty difficult for the average employer or employee to understand. They're a bit more complicated to manage as well. Staying in compliance would be difficult for a non-professional. If you choose to offer a flex benefits plan, we recommend that you do so through a private insurance broker or utilize HR software to help you get the most out of it and avoid compliance issues.

2. Employees are locked into their plan choices for one year.

Often, standard benefits plans have options for individual or family health insurance plans. Employees can change their elections during open enrollment or if they have a qualifying life event. So if Janet, in our example above, had a baby in the middle of the year, she could change her health insurance to a family plan, or opt into her employer’s child care plan. With a flex plan, the law would still allow Janet to add her baby to her health insurance plan, but she would have to pay the difference out of pocket as her employer paid benefits are locked in for a full year.

Flex benefits plans are a good option for employers who want the freedom to offer a variety of benefits to employees without spending too much money. But they are a bit complicated, and compliance can be challenging without help. If you’re interested in a flex benefits plan for your company, see how one of our HR advisors can help you out!

This communication is for informational purposes only; it is not legal, tax or accounting advice; and is not an offer to sell, buy or procure insurance.

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